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Which of the following is most likely to occur as you add randomly selected stocks to your portfolio, which currently consists of 3 average stocks?


A) The expected return of your portfolio is likely to decline.
B) The diversifiable risk will remain the same, but the market risk will likely decline.
C) Both the diversifiable risk and the market risk of your portfolio are likely to decline.
D) The total risk of your portfolio should decline, and as a result, the expected rate of return on the portfolio should also decline.
E) The diversifiable risk of your portfolio will likely decline, but the expected market risk should not change.

F) A) and E)
G) A) and B)

Correct Answer

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E

Barker Corphas a beta of 1.10, the real risk-free rate is 2.00%, investors expect a 3.00% future inflation rate, and the market risk premium is 4.70% What is Barker's required rate of return?


A) 9.43%
B) 9.67%
C) 9.92%
D) 10.17%
E) 10.42%

F) A) and B)
G) B) and E)

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Stock A's beta is 1.7 and Stock B's beta is 0.7 Which of the following statements must be true about these securities? (Assume market equilibrium.)


A) Stock B must be a more desirable addition to a portfolio than A.
B) Stock A must be a more desirable addition to a portfolio than B.
C) The expected return on Stock A should be greater than that on B.
D) The expected return on Stock B should be greater than that on A.
E) When held in isolation, Stock A has more risk than Stock B.

F) B) and E)
G) A) and D)

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Which of the following statements is CORRECT?


A) Lower beta stocks have higher required returns.
B) A stock's beta indicates its diversifiable risk.
C) Diversifiable risk cannot be completely diversified away.
D) Two securities with the same stand-alone risk must have the same betas.
E) The slope of the security market line is equal to the market risk premium.

F) A) and B)
G) A) and E)

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risk-free rate is 6%; Stock A has a beta of 1.0; Stock B has a beta of 2.0; and the market risk premium, rM − rRF, is positive Which of the following statements is CORRECT?


A) Stock B's required rate of return is twice that of Stock A.
B) If Stock A's required return is 11%, then the market risk premium is 5%.
C) If Stock B's required return is 11%, then the market risk premium is 5%.
D) If the risk-free rate remains constant but the market risk premium increases, Stock A's required return will increase by more than Stock B's.
E) If the risk-free rate increases but the market risk premium stays unchanged, Stock B's required return will increase by more than Stock A's.

F) A) and B)
G) C) and D)

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has a portfolio of 20 average stocks, and Tom has a portfolio of 2 average stocks Assuming the market is in equilibrium, which of the following statements is CORRECT?


A) The required return on Ann's portfolio will be lower than that on Tom's portfolio because Ann's portfolio will have less total risk.
B) Tom's portfolio will have more diversifiable risk, the same market risk, and thus more total risk than Ann's portfolio, but the required (and expected) returns will be the same on both portfolios.
C) If the two portfolios have the same beta, their required returns will be the same, but Ann's portfolio will have less market risk than Tom's.
D) The expected return on Jane's portfolio must be lower than the expected return on Dick's portfolio because Jane is more diversified.
E) Ann's portfolio will have less diversifiable risk and also less market risk than Tom's portfolio.

F) B) and E)
G) C) and D)

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you plotted the returns on a given stock against those of the market, and if you found that the slope of the regression line was negative, the CAPM would indicate that the required rate of return on the stock should be greater than the risk-free rate for a well-diversified investor, assuming that the observed relationship is expected to continue into the future.

A) True
B) False

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Shirley Paul's 2-stock portfolio has a total value of $100,000 $37,500 is invested in Stock A with a beta of 0.75 and the remainder is invested in Stock B with a beta of 1.42 What is her portfolio's beta?


A) 1.17
B) 1.23
C) 1.29
D) 1.35
E) 1.42

F) A) and D)
G) A) and C)

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would generally find that the beta of a single security is more stable over time than the beta of a diversified portfolio.

A) True
B) False

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Stocks A and B both have an expected return of 10% and a standard deviation of returns of 25% Stock A has a beta of 0.8 and Stock B has a beta of 1.2 The correlation coefficient, r, between the two stocks is 0.6 Portfolio P has 50% invested in Stock A and 50% invested in B Which of the following statements is CORRECT?


A) Based on the information we are given, and assuming those are the views of the marginal investor, it is apparent that the two stocks are in equilibrium.
B) Portfolio P has more market risk than Stock A but less market risk than B.
C) Stock A should have a higher expected return than Stock B as viewed by the marginal investor.
D) Portfolio P has a coefficient of variation equal to 2.5.
E) Portfolio P has a standard deviation of 25% and a beta of 1.0.

F) A) and C)
G) A) and B)

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tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation.

A) True
B) False

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False

slope of the SML is determined by the value of beta.

A) True
B) False

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historical data, we see that investments with the highest average annual returns also tend to have the highest standard deviations of annual returns This observation supports the notion that there is a positive correlation between risk and return Which of the following answers correctly ranks investments from highest to lowest risk (and return) , where the security with the highest risk is shown first, the one with the lowest risk last?


A) Large-company stocks, small-company stocks, long-term corporate bonds, U.S. Treasury bills, long-term government bonds.
B) Small-company stocks, large-company stocks, long-term corporate bonds, long-term government bonds, U.S. Treasury bills.
C) U.S. Treasury bills, long-term government bonds, long-term corporate bonds, small-company stocks, large-company stocks.
D) Large-company stocks, small-company stocks, long-term corporate bonds, long-term government bonds, U.S. Treasury bills.
E) Small-company stocks, long-term corporate bonds, large-company stocks, long-term government bonds, U.S. Treasury bills.

F) D) and E)
G) A) and C)

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friend is considering adding one additional stock to a 3-stock portfolio, to form a 4-stock portfolioShe is highly risk averse and has asked for your adviceThe three stocks currently held all have b = 1.0, and they are perfectly positively correlated with the marketPotential new Stocks A and B both have expected returns of 15%, are in equilibrium, and are equally correlated with the market, with r = 0.75However, Stock A's standard deviation of returns is 12% versus 8% for Stock BWhich stock should this investor add to his or her portfolio, or does the choice not matter?


A) Stock A.
B) Stock B.
C) Neither A nor B, as neither has a return sufficient to compensate for risk.
D) Add A, since its beta must be lower.
E) Either A or B, i.e., the investor should be indifferent between the two.

F) A) and E)
G) C) and E)

Correct Answer

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Portfolio A has but one security, while Portfolio B has 100 securities Because of diversification effects, we would expect Portfolio B to have the lower risk However, it is possible for Portfolio A to be less risky.

A) True
B) False

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True

Assume that the risk-free rate is 6% and the market risk premium is 5% Given this information, which of the following statements is CORRECT?


A) If a stock has a negative beta, its required return must also be negative.
B) An index fund with beta = 1.0 should have a required return less than 11%.
C) If a stock's beta doubles, its required return must also double.
D) An index fund with beta = 1.0 should have a required return greater than 11%.
E) An index fund with beta = 1.0 should have a required return of 11%.

F) B) and E)
G) A) and B)

Correct Answer

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Which of the following statements is CORRECT?


A) If an investor buys enough stocks, he or she can, through diversification, eliminate all of the diversifiable risk inherent in owning stocks. Therefore, if a portfolio contained all publicly traded stocks, it would be essentially riskless.
B) The required return on a firm's common stock is, in theory, determined solely by its market risk. If the market risk is known, and if that risk is expected to remain constant, then no other information is required to specify the firm's required return.
C) Portfolio diversification reduces the variability of returns (as measured by the standard deviation) of each individual stock held in a portfolio.
D) A security's beta measures its non-diversifiable, or market, risk relative to that of an average stock.
E) A stock's beta is less relevant as a measure of risk to an investor with a well-diversified portfolio than to an investor who holds only that one stock.

F) All of the above
G) C) and D)

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the price of money (e.g., interest rates and equity capital costs) increases due to an increase in anticipated inflation, the risk-free rate will also increase If there is no change in investors' risk aversion, then the market risk premium (rM − rRF) will remain constant Also, if there is no change in stocks' betas, then the required rate of return on each stock as measured by the CAPM will increase by the same amount as the increase in expected inflation.

A) True
B) False

Correct Answer

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realized return on a stock portfolio is the weighted average of the expected returns on the stocks in the portfolio.

A) True
B) False

Correct Answer

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Y-axis intercept of the SML represents the required return of a portfolio with a beta of zero, which is the risk-free rate.

A) True
B) False

Correct Answer

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